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Buy-to-let mortgages

Many people have become landlords using a buy-to-let mortgage in the last decade as a way of boosting their income or to save for their retirement. If you have ever thought about buying a property to rent out here we explain how buy-to-let mortgages work.

What is a buy-to-let mortgage?

If you want to borrow money to buy a property to rent out, you need a particular type of mortgage called a buy-to-let mortgage. Although buy-to-let mortgages work in a very similar way to standard residential mortgages there are some important differences:

Affordability

You may need a minimum income to be eligible for a buy-to-let mortgage, and although how much you can borrow depends more on the rent you can charge than your income, you still need to be able to show you can afford to make the repayments, even if interest rates rise.

How much can you borrow?

With a buy-to-let mortgage the rent you can charge for the property needs to be at least 125% of your monthly mortgage repayment on the buy-to-let mortgage. However, due to tightening of regulations, some lenders have increased this to 145%. This means that if your mortgage repayment is £1,000 you need to be able to rent out the property for £1,250 or £1,450 per month.

Increased stamp duty on buy-to-let properties

Since April 2016 if you buy a second home, including a buy-to-let property, the amount of stamp duty you have to pay has been increased by 3%. This means that if you purchase a property worth £200,000 to rent out instead of paying £1,500 of stamp duty, you would be charged £7,500 - an increase of £6,000.

Changes in income tax

If you are a higher rate taxpayer (you earn more than £50,000 in the 2019 to 2020 tax year) one of the big advantages of buy-to-let was that you could reduce your income by the full amount of the interest you were paying on your buy-to-let mortgage. However, by 2020 this is being reduced so that you will only be able to reduce your income by 20%, not 40% for higher rate taxpayers.

How to make money from buy-to-let

  • Buy the right type of property in the right area and think about you will be able to rent it to.
  • It is advisable to take out insurance to protect your investment against problems with tenants. Landlord insurance can protect you against the cost of evicting a bad tenant or repair a property if it is damaged or left in a poor state of repair. It may also cover loss of rental income if a tenant refuses to, or is unable to, pay their rent.
  • You should budget for annual maintenance and emergency repairs to your buy-to-let property and allow for some time each year when the property is not rented out.
  • Decide if you are going to manage the property or use a managing agent, which will eat into your potential profits.
  • Always vet your potential tenants, carry out credit checks and get references.
  • Do an inventory, so you and the tenant have a record of what state the property was in when the rental started. This can avoid problems later on.
  • Shop around for the best buy-to-let mortgage. Use price comparison sites or an independent mortgage broker.
  • Make sure you can afford the mortgage repayments even if interest rates rise.
  • Be aware that the amount you can reduce your income by because of the cost of your buy-to-let mortgage interest is reducing by 2020. Also as a buy-to-let property is not your main home, you will potentially have to pay capital gains tax on any increase in its value.